As of trading and gain/losses

[Guest mporterst]

I am just wondering what other trustees/recordkeepers are doing if a transaction is back dated and there is a gain or loss. So, basically I am interested in knowing what happens if there is a loss (e.g., do you fund the trust the loss, make participant whole, etc.) and what happens if there is a gain (e.g., do you keep the gain, do you allocate it to all participants, etc.). Finally, is there any legal authority for how we should be handling gains/losses.

Thanks

[Guest JimmyG]

First, you might want to check and see if your company has a "Code of Ethics" which may outline what you'll do. If it does, it would be good for the employees of the company to follow the procedures that the company has in writing.

Beyond that, you need to make the participant whole on a loss. We go back and do the as of pricing and determine how many shares they should have purchased. If they should have received more shares than the money could buy today (i.e. the share price went up), we go back and purchase them the amount of shares they should have had and we transfer money from our fee account at our platform over to the plan account. (Essentially, we end up reducing our RIA fees for the quarter, but then again, we handle both the investments as an RIA and the TPA side.) On the other hand, if the share price went down and the participant would have been better off if we purchased today, we do that. If there was more than one investment being an issue and one went up and one went down, we run net calculations to see where "overall" they'd have been better off. (i.e. we do NOT say that they would have been better off to buy the XYZ Growth Fund a week ago, but to buy the XYZ International Fund today and give them the best price on each. We would calculate and see how much they would have if we purchased both last week versus buying both today and do whichever is best for the client.) You may be able to take the gain and do something like holding it in a suspense account for use against other trades that have losses. We have to explain (because we're RIA's) in our form ADV Part II how we do things, so we've set up a standard that we need to live up to.

Then, we document what we did and why with a "Trade Error Report" completed by the person who made / corrected the error and then reviewed by a compliance officer / member of management.

[Peter Gulia]

Correcting errors in implementing investment directions

A conservative approach is to credit each participant’s account with the better of: the as-of corrected investment result or the benefit of the incorrect investment (until the error was corrected) if that would be better. The theory is that a fiduciary, or even an ordinary service provider that stands by its work, shouldn’t benefit from its own error. (For a trust under which the beneficiaries together enjoy the results of a common pool of investments – especially a trust without directed investment, this might make sense. For a participant-directed individual-account plan this makes less economic sense because correcting errors could cause some participants to subsidize others.)

Recognizing that the nature of participant-directed plans and a recordkeeper’s services naturally involves some reasonable range of errors (whether it’s 1% or 0.000001%), some recordkeepers (especially those that assume the absence of any fiduciary duty) believe that – as long as “gaming” is avoided, and exclusive benefit for the plan preserved – it’s fair to uniformly correct an individual account to the participant’s, beneficiary’s, or alternate payee’s actual investment direction, even if that leaves the directing person with a worse-off investment result. Some ERISA lawyers are willing to sign an opinion to support that view. I’m one of them (if the client presents, or changes to, the right contract and other facts and circumstances), and can do the opinion for either a non-fiduciary or a fiduciary.

Without getting into all of the facts and conditions that would be needed to support such a view, an important part of it is disclosure to, and approval by, an independent plan fiduciary. The ideal is that the parties have an open conversation, and a real negotiation, about understanding the relationship between how much service expense a plan has to bear to improve accuracy, or how much inaccuracy a plan should tolerate to keep service expense reasonable. The minimum disclosure needs to be enough so that the independent plan fiduciary could evaluate the trade-offs.

The independent plan fiduciary has a duty (and thus authority) to make decisions, prudently, about what’s in the best interests of the plan. How a good fiduciary goes about doing that is another discussion.

There is no one DoL Interpretive Bulletin that will give you a single “the answer”. If your business chooses anything beyond the most conservative answer, you’ll want to build good support for what you do because a business that gets it wrong will have a nasty contingent liability and excise tax payable.

This bulletin board is about giving a fellow practitioner a starting point, so please understand that none of this is legal advice.